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Ruling

Subject: Legal expenses - unfair dismissal

Question

Are you entitled to a deduction for legal expenses?

Answer

No.

This ruling applies for the following period:

Year ended 30 June 2011

The scheme commenced on:

1 July 2010

Relevant facts and circumstances

You were advised by your employer that the company you worked for was restructuring and that your role was no longer required.

You received a letter stating that your employment had been terminated.

You sought legal advice and were advised that you had grounds to pursue your employer for unfair dismissal.

Your solicitor entered into correspondence with your employer on your behalf.

You were not re-instated in your employment position and you did not receive any additional payment.

You incurred legal fees.

You did not pursue your employer further through the Fair Work Act as your income was above the relevant threshold.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1.

Reasons for decision

Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income, except where the outgoings are of a capital, private or domestic nature.

Legal expenses are generally deductible if they arise out of the day to day activities of the taxpayer's business (Herald and Weekly Times Ltd v. Federal Commissioner of Taxation (1932) 48 CLR 113). For legal expenses to constitute an allowable deduction, it must be shown that they were incidental or relevant to the production of the taxpayer's assessable income, (Ronpibon Tin NL & Tong Kah Compound NL v. Federal Commissioner of Taxation (1949) 78 CLR 47).

Also, in determining whether a deduction for legal expenses is allowable under section 8-1 of the ITAA 1997, the nature of the expenditure must be considered (Hallstroms Pty Ltd v. Federal Commissioner of Taxation (1946) 72 CLR 634; (1946) 3 AITR 436; (1946) 8 ATD 190). The nature or character of the legal expenses follows the advantage that is sought to be gained by incurring the expenses.

Paragraph 5 of Taxation Determination TD 93/29 provides the Commissioner's view on the deductibility of legal expenses in relation to a wrongful dismissal action. This paragraph states that the expenses:

§ will be deductible to the extent to which they relate to a claim for items of a revenue nature such as unpaid salary or wages

§ will not be deductible to the extent to which they relate to a claim for items of a capital nature such as damages for wrongful dismissal.

Expenses incurred in seeking reinstatement of employment are capital in nature. The purpose of such expenditure is to re-establish an income stream or for gaining an enduring benefit, that is, your reinstatement in the employment position.

In your case, you were advised by your employer that your position was no longer required and your employment was subsequently terminated. You incurred legal expenses for the purpose of commencing legal action against your former employer in relation to unfair dismissal. It follows that the advantage to be gained in incurring the legal expenses was reinstatement of your employment position or damages for unfair dismissal.

Accordingly, the legal expenses are not deductible under section 8-1 of the ITAA 1997 as they are capital in nature.